Spain to slump further but will hit deficit goal

Spain's Economy Minister Luis De Guindos listens to a question at a conference in Madrid May 21, 2012. REUTERS/Andrea Comas

MADRID (Reuters) - Spain said on Monday it would meet its deficit targets this year despite a new slippage in its regions’ accounts and a further contraction of the economy in the second quarter.

Economy Minister Luis de Guindos said economic activity would likely slump by another 0.3 percent between April and June, further fuelling doubts about the country’s ability to get a grip on in its finances and nurse an ailing banking sector back to health.

The shrinking economy along with missed fiscal targets, chronically high unemployment and rising bad loan rates in the banking sector have stoked concerns that Spain may need outside help to manage its finances.

That has roiled markets and driven the country’s debt servicing costs closer to unsustainable levels this month.

Centre-right Prime Minister Mariano Rajoy told German Chancellor Angela Merkel on Sunday in Chicago that the banking system did not need external aid.

Auditors will soon begin an independent look at Spain’s banking system to see whether the government must pump more funds into the banks after four different restructurings have failed to restore confidence in the lenders.

Any hopes that the impact of support for the banks might be eased by an upturn in the economy look premature.

“What we see is that (the economy in) the second quarter will have a relatively similar behavior to the first quarter, when it contracted by 0.3 percent,” de Guindos told businessmen and journalists in Madrid.

The government admitted late on Friday its 2011 public deficit was higher than it had previously reported due to adjusted accounts in three of its regions.

‘COMMITMENT’ FROM REGIONS

But de Guindos said Spain’s 17 autonomous communities and the central administration both had a firm commitment to meet their deficit targets this year.

“For the first time in many years, there is a commitment from the autonomous communities and the central administration to correct the public deficit,” De Guindos said, noting that tough regional budget plans released last week would compensate for the slippage.

Spain’s central government last Thursday approved plans to drastically cut the spending of its indebted regions this year and said it would introduce by July a new mechanism to back their financing needs.

Treasury Minister Cristobal Montoro said on Monday that the mechanism should not affect Spain’s credit rating. The government has studied underwriting regional bonds, but it was not clear if that was the formula that would be used.

The government said the regions had committed to slash spending by 13 billion euros ($16.52 billion) and increase revenues by 5 billion euros ($6.35 billion).

“The regions understand that cutting the deficit is a priority and the meeting with them last week showed they are all committed to it,” Montoro said at an event in Madrid on Monday.

“There’s no other way forward for Spain but to cut its deficit.”

Spain aims to cut its deficit to 5.3 percent of its economic output this year, from 8.9 percent according to the last figures released on Friday.

It was the second time in less than five months that Madrid had to revise its public accounts data.

Although the move was likely to unnerve investors further, the risk premium investors demand to hold Spanish over German debt was relatively unchanged at 484 basis points at around 0930 GMT, down from last week’s record highs at over 500 basis points.

Reporting by Nigel Davies and Robert Hetz, writing by Julien Toyer; Editing by John Stonestreet